Why do we use "lots"?

Beginner Questions
1

Sorry for such a basic question. I have read a lot in the school and online in general, but as I primarily have a stocks background (planning on entering Forex this coming week), I am easily confused. I understand how to limit risk through position sizing related to your stop position, and I now understand that it is quite good to have a high leverage as it gives you more freedom and you shouldn’t be too concerned with it if you have proper risk management in relation to your own account size and are not going over your means.

The question -> Can someone explain to me why “lots” are used. It just confuses me that we can’t deposit a sum of money as in stocks and then just buy a certain sized position. Why do we have micro, mini and standard lots? I have about £5000 I am willing to go into forex to try it with, but I don’t understand how mini or micro would affect my trading? I would be risking about 1-2% of my capital on any position I put on and my stop placement would determine my position size, which would in turn adjust my pip value I was playing with (be it £0.75 or £1 or whatever it ended up being for that position). Once we start talking lot sizes, my simple stocks mind freezes over. Is there need for it to be more complicated than I have stated? Am I completely off base?

Thanks. Any help appreciated.

2

Don’t read it, trade it! :stuck_out_tongue:

Okay, seriously that probably comes from history. The time when there were just future contracts and no retail crowd in fx spot markets. Big institutions usually don’t calculate in bunches of pennies, so that’s probably why 100k is a standard lot.

What you risk is what leverage you [U]use[/U] multiplied with the spread between your entry and stop.

Example: Lets say you risk a standard lot by 20 pips spread with a dollar standard pair like eurusd then your risk is limited to 20 pips multiplied by 10 bucks which is 200 bucks. Put another way, one pip movement and one standard lot is equal to 10 bucks.

If you use 1/10th of a standard lot, then your risk also cuts to 1/10. Means every pip move equals 1 buck. And so on.

The leverage which you are allowed to have has nothing to do with it. It is just the maximum what you can use (but shouldn’t!).

I hope that helps. :slight_smile:

3

Lots are actually used in the stock market too, though not as publicly. An “odd lot” is a trade that’s not done in a multiple of 100 shares.

A lot is nothing more than a standard trade size - 1000, 10,000, or 100,000 units of the base currency. Not all brokers use lots, but most do. Back in the day, we just had standard lots (thus the name). As the markets became “democratized”, mini and then micro lots were introduced to allow smaller players in. What gets tricky is when a trading platform uses things like .1 lot and sometimes that means 10,000 (.1 of a standard lot) while other times it means 1000 (.1 of a mini lot).

4

Thanks guys. So what would you recommend I choose lot wise for £5000? Also, are spreadbetting forex brokers different in this regard? I’m assuming that lot sizes aren’t relevant as I would be putting down a value per pip and that is really it?

5

If you’re trading forex (as opposed to spread-betting), there’s an advantage in having an account that’s configured to trade very small “fractional lots” — i.e., micro-lots, nano-lots, or even “units”. And that advantage is flexibility (1) in position sizing, and (2) in scaling in and out of positions.

[B]Regarding position sizing — [/B]

One of the disciplines you absolutely must learn, if you’re going to survive in this business, is proper position-sizing. In a nutshell, that means knowing how to figure (quickly and accurately) how many lots, or mini-lots, or micro-lots, etc., you can trade within the risk parameters that you have chosen for yourself.

Suppose you choose to limit your risk per trade to no more than 1½% of your £5000 account. That means that you will risk no more than £75 on any one trade. Now suppose that you want to use a 40-pip stop-loss, trading the EUR/GBP pair, which has a pip-value of £10 per pip per standard lot (= £1 per pip per mini-lot = £0.10 per pip per micro-lot, etc.).

• If you were trading through a Standard Account, in which the minimum position size is 1 standard lot, you couldn’t even place this trade, because your 40-pip risk on 1 standard lot would equate to £400 of risk.

• On the other hand, if you were trading through a Mini Account, in which the minimum position size is 1 mini-lot, you could trade 1 mini-lot (equal to 0.1 standard lot), but not 2 mini-lots.

• But, if you were trading through a Micro Account, in which the minimum position size is 1 micro-lot, you could trade 18 micro-lots (equal to 0.18 standard lot = 1.8 mini-lots).

• And if you were trading through a Nano Account, in which the minimum position size is 1 nano-lot, you could trade 187 nano-lots (equal to 0.187 standard lots = 1.87 mini-lots = 18.7 micro-lots).

• Finally, if your were trading through an account configured to trade in individual units of currency, you could trade 18,750 units of the base currency in your pair.

In these five examples, the smaller the fractional lots traded, the closer you can tailor your position size to your pre-determined 1½% risk limit.

[B]Regarding scaling in and scaling out of your position —[/B]

[I]Scaling in[/I] refers to entering your total position in fractional steps. For example, entering a 10-micro-lot position in three steps: 5 micro-lots, 3 micro-lots, and 2 micro-lots.

[I]Scaling out[/I] is just the reverse.

Obviously, you can’t scale in or out of a 1-lot position. And, if you are trading a 2-lot position, you have only one choice for scaling: one lot at a time entering, and/or one lot at a time exiting.

However, it your position consists of multiple fractional lots — 18 micro-lots, or 187 nano-lots, as in the examples above — you have a lot of flexibility in entering and/or exiting your entire position.

I seldom scale into a trade, but I almost always scale out (for instance, at key support or resistance levels).

As a brand-new trader, you may not want to use these scaling techniques. But, later in your career, I’m sure you will come to appreciate the control that you can achieve by scaling out of your positions.

Spread-betting is a Brit thing (which I am not).

So, I’ll leave comparisons of standard retail forex trading vs spread-betting to one of your countrymen.

6

because we want to make a lot of money.

7

It’s always smart to avoid making a fool of oneself when one is intoxicated. Just saying.

8

U cant beat Clint on the answers, hes like Chuck norris of babypips :slight_smile:

9

Thanks for the in depth replies. Very much appreciated. I think the confusion for me was because I have only tried one platform, which was on Oanda. In this, I could put in any position size I wanted without needing to be multiples of any base size. This was a 100k standard account, and I could buy or sell any amount of units I wanted without restriction. This would be your ‘flexi’ account idea? The position size I entered then updated the value per pip that I was consequently playing with. This was ideal because if my stop loss was further away from my entry, I could size the position to an exact size that gave me a value per pip I was playing with that kept my risk of 1.5% EXACT. If the stop loss was closer, I could size my position larger and have my risk the same but my value per pip larger also. I guess a flexi account means you have complete freedom to ensure your risk % is exact without the need for ‘rough’ position sizes. Correct?

10

tehmac,

I read your latest post twice, and I don’t see any errors in what you have said. You seem to understand the concept of [B]position size as a function of account balance, risk %, stop-loss, and pip-value.[/B]

I’m a firm believer in knowing how to calculate things by hand, from scratch, before relying on handy-dandy calculators to do the work for you. But, once you have mastered the relatively simple math of position sizing, I encourage you to take advantage of the [B]Babypips Position Size Calculator.[/B] It works, it’s accurate, it’s fast, and it’s easy.

You can follow this path to the Position Size Calculator —

> [B]Tools[/B] (at the top of this page) > [B]Forex Calculators[/B] (in the left-hand menu) > [B]Position Size Calculator[/B]

Or, you can bookmark this direct link, and have the Calculator one click away at all times —

Position Size Calculator: Free Online Forex Position Sizing Calculator

I use this Calculator frequently. I used it to double-check the numbers in my last post, before hitting “submit”.

11

Thanks again. I’ve just been having a fiddle around in the demo account to get my head around everything. I’m beginning to realise why someone said that it’s beneficial to have a high leverage ratio as it gives you the ability to place more trades. Assuming you are calculating your stops properly so your risk % of your account is kept. If I had £4000 in my account and bought 31300 units of EUR/USD, then my margin at 10:1 would mean I need to use margin of around £2676, but if I had 50:1 it would only use £520 of my margin. Therefore I could place many more trades before reaching my margin limit (account balance). What do you experienced traders recommend with regards to maintaining a safe “margin used” amount. I’m guessing it’s irrelevant if I have a winning system and I’m sticking to my risk % levels, but I’ve read a good safeguard is to not use more than 2/3rds of your margin as a buffer. Using 50:1 or higher makes sense, but the high leverage is inherently drilled into us to be avoided. Conflicting emotions.